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Sunday, October 16, 2011

Since When is the Fed Doing its Job Considered Going Nuclear?

Joe Weisenthal is reporting that Goldman Sachs has come out in favor of the Fed adopting a nominal GDP level target that would put it back on its long-run, pre-crisis trend. This endorsement speaks to the growinginterestandrecognition of nominal GDP level targeting by the public. Even some Fed officials are speaking in favor of it. Great news.

What is remarkable to me is that many observers in this debate describe the adoption of nominal GDP level targeting as the Fed going nuclear. For example, Weisenthal's article above is titled "Goldman Advises The Fed To Go Nuclear, And Set A Target For Nominal GDP" and not too long ago David Wessel had an article titled "The Fed's (Gulp) Nuclear Options" where one of the options was nominal GDP targeting. I did not realize that the Fed doing its job was considered going nuclear. All along the Fed should have either prevented or corrected the steep fall in nominal spending that took place in late 2008 and early 2009. The central bank of Sweden was able to doso, but not the Fed. The best it could do was throw some ad-hoc monetary stimulus programs (i.e. QE2, Operation Twist) against the wall and hope that they would stick. How much easier life would have been for the Fed--both operationally and politically--had it stated up front in 2008 that it was committed to maintaining trend nominal spending at any cost. This would have better anchored nominal spending and inflation expectations that in turn would served to stabilize aggregate demand. Instead, we have had three years of effectively tight monetary policy where it has become seen as normal so that for the Fed to do the job it should have done all along is considered going nuclear. It should never have come to this point.